Day Trading: Smart Or Stupid?

Whether it is related to Bitcoin or mainstream stocks, Day Trading is the new “sexy” that gets an inordinate amount of hype. There are lots of sites that claim to; “turn you into an instant day trader” or promise that, “millions of dollars can be made just investing a few hours per day.” Not to mention that “anyone can become a day trader, instantly.” If you believe all of this, I have a bridge I would like to sell you.

First, let’s first be clear about a definition of Day Trading. Investopedia indicates that “Day Trading is defined as the buying and selling of a security within a single trading day. This can occur in any marketplace, but is most common in the foreign-exchange (forex) market and stock market.”

Ideally, the day trader wants to end the day with no open positions, so they don’t have to risk holding on to a potentially risky position overnight or for a few days. That means that if the market turns against them, they could lose a lot of money. Is this a smart way to invest or is it just another “get rich scam” for the fool-hardy?

Do You Have The Stomach To Day Trade?

If you are an amateur, you may be playing with fire. Your odds of success are like those of any other high stakes gambler. The professionals really know their stuff. Typically, they are well-established, disciplined traders who are experts in the markets. The other characteristic is that they invest large sums of money, which they can afford to lose. That seems strange, but in fact, they need a lot of money to capitalize effectively on small price movements. The other factor is that when you trade larger positions, you are faced with reduced commissions compared to what a small stock day trader will face. They have money to risk; it is called “risk capital,” which is the money that they allocate for speculative purposes. This is where the high-risk/high-reward investment strategy comes in to play. They do not bet the whole farm on one trade because they could be on the wrong side of the market.

There are two types of day traders:

Professional Day Traders

These people work for large financial institutions. I think that this is a great way to start. First, you will be trained by professionals and not by a “do-it-yourself” online course. You may even get a mentor who will watch over you. They have all the latest tools for trading and the information on order flow and “stops” that are placed, so they will have a leg up on the small trader. You will be paid a base salary and then a bonus. Secondly, you are not investing your own money, so you have nothing at risk, except your job and your time.

TradingSim states that the base salary at a New York financial institution “... may be about 50,000 – 7000 dollars US. This is just enough for you to pay your cable bill, feed yourself and maybe take a taxi or two.” They want you to be hungry and make your bonus because, if you make money, it means that you have made money for them. You should be earning about 10-30% of the profits you bring in, according to TradingSim.

Individual Day Traders

These people go it alone. Just being familiar with stocks and the market is not enough. They really need to understand technical analysis and have sophisticated tools to understand chart patterns, trading volume and price movements. Investopedia explains that “Learning and understanding how these indicators work only scratches the surface of what you’ll need to know to develop a personal trading style.”

It’s important to remember that trading requires enough invested money in taking advantage of relatively small price movements. Without the price movements, you won’t make money. If you are investing small amounts of money, the gains will be minuscule and may not even cover the trading commissions you will have to pay.

Fiction Will Not Cost You Real Money

If you are convinced that day trading is for you, try it out with fictional trades. The point is that you must develop your techniques of when to get into a position and when to get out. It sounds like advice you would give a gambler, right? Well, it is. Most traders develop a very disciplined process and stick to it and know when to close out a position. You can trade just a few stocks or a basket of stocks. Again, do this for about a month and calculate what you make and lose each day.

“The success rate for day traders is estimated to be around only 10%, so … 90% are losing money.” Cory Michael at Vantage Point Trading is even more pessimistic (or realistic) when he says, “Only 1% of [day] traders really make money.” He says it’s because of the “social mood.” Put simply, by definition, if you are buying, someone else must be selling; that is the social part. The markets are a real-time thermometer; buying and selling, action and reaction. If someone is making money, someone else is losing money. You would have to join the crowd as the market is moving up and be smarter than that crowd to get out before they do, if it starts to fall.

Nial Fuller at LearnToTradeTheMarket.com quips, ”The reality of a day-trader is a guy who got 2 hours of sleep last night because he was trying to trade the overnight session, now he’s up at 6am trying to day-trade the next session. Many traders get sucked into trying to become a rich day-trader largely because that’s what they think is socially acceptable or “cool.” This scenario gives me a stomach ache, which is exactly the point. I remember walking through the trading floor at Chase and hearing the moans and groans from the traders, not to mention seeing the 32 oz. bottles of Pepto-Bismol prominently displayed on each of their desks.

You know my advice. Any system of betting is not designed so that the majority of people can beat it. If you are going to dabble in day trading, set aside some money that you can afford to lose, because chances are, you will. You also may want to remember the words of Aristotle, (who was not a day trader, by the way), “Bring your desires down to your present means. Increase them only when your increased means permit.”

I’m a New York Times #1 Best Selling Author of 27 books all empowering families (and their kids) to take charge of their financial lives. I make money lessons fun, interesting and a family affair. I also speak the new language of kids: mobile video gaming. I’ve released 3 ...